In the Tax Cuts and Jobs Act (TCJA), Congress eliminated the deduction for research and experimental expenditures that has been a part of the federal tax code since 1954. Because of the amendment’s delayed effective date, and despite numerous efforts to defer its implementation even further into the future, the new law went into effect for taxable years beginning in 2022. Instead of taking immediate deductions for the cost of developing and improving their technologies, businesses must now capitalize and amortize those expenses over five years, or 15 years for research conducted abroad.
This change has significant ramifications. It has the potential to cause substantial tax increases for businesses that engage in significant R&E activities. It also creates a number of interpretive issues, and sets up potential conflicts with other provisions of the tax code. In addition, it makes the United States an outlier among the OECD (Organization for Economic Cooperation and Development) nations, where current expensing of R&E expenditures remains the norm. Because of this, the TCJA’s changes to section 174 may incentivize large businesses either to reduce their research activities or to shift those activities to foreign affiliates, taking numerous high-paying jobs, and even the resulting intellectual property, with them. Despite these potential consequences, Congress made the decision to upend more than 60 years of consistent tax policy with remarkably little discussion, data analysis, or explanation.
While other aspects of the TCJA’s tax provisions have received scholarly attention, the changes affecting R&E expenditures have remained largely unexplored, perhaps due to uncertainty over whether the changes would be repealed. Despite repeal efforts, the new R&E rules have now gone into effect, and taxpayers must now comply with those rules even though the Treasury has offered no substantive guidance on their interpretation, despite requests to do so from taxpayers’ representatives.
This article analyzes the new rules governing the tax treatment of R&E expenditures, identifies significant interpretive issues, and considers the potential impact of these rules on businesses engaged in R&E activities.